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Noncompete Agreements: Return to the Common Law
Ronald S. Nixon

Historically, businesses have sought to protect their business interests from departing employees and other agents, such as independent contractors, by obtaining covenants not to compete upon hiring or otherwise contracting for their services. During their employment or engagement, employees and agents often gain valuable information about a company’s pricing and methods of doing business that can give them an unfair advantage in entering competition with their employer or principal but that does not merit protection under applicable trade secrets law. Further, those employees and agents are often the faces with whom customers identify the business. The company’s proprietary information and goodwill are among its most valuable assets, and a reasonable noncompete agreement preventing employees and agents from competing in the area that the company or principal does business for a time after their employment or engagement ends is an effective means of protecting the business.

Michigan Antitrust Reform Act
Between 1905 and 1985, such noncompete agreements were for the most part illegal and unenforceable in Michigan by statute, with certain narrow exceptions for covenants that protect the goodwill accompanying the sale of a business and an employer’s customer lists for a limited 90-day period. See MCL 445.761 and 445.766. In March 1985, the Michigan legislature repealed these statutes with the passage of the Michigan Antitrust Reform Act (”MARA”), MCL 445.771 et seq. Commentators suggested that the passage of MARA brought back the enforceability of employee noncompete agreements under a rule of reason applied under Michigan common law before they were made illegal. See, e.g., Irwin Alterman (who is an attorney and shareholder at Kemp Klein), New Era for Employee Covenants Not to Compete, 64 Mich B J 268 (1985).

Subsequently, the legislature specifically legalized employment noncompete agreements, providing that an employer may obtain an agreement that prevented competition by an employee after termination so long as the agreement is reasonable. MCL 445.774a (passed in 1987, effective retroactively to March 1985). In this statute, the term “reasonable” essentially means an agreement that serves to protect an employer’s legitimate business interests and that is reasonably limited with respect to duration, geographic territory, and line of business.

The passage of a statute specifically dealing with noncompete agreements between employers and employees created some uncertainty with respect to covenants not to compete with other agents, such as independent contractors. However, many attorneys have advised their clients who do business through independent contractors, such as independent sales representatives, to obtain covenants not to compete.

Includes Independent Contractors
On March 22, 2002, the Michigan Court of Appeals confirmed that advice as sound with its decision in Bristol Window and Door, Inc v Hoogenstyn, holding that noncompete agreements with independent contractors are enforceable so long as they are reasonable. The plaintiff was a home improvement company that employed independent sales representatives, obtaining from each of them a covenant not to compete that purportedly prevented them from competing within the state of Michigan for a period of three years following termination. The defendants were several of these sales agents who left and immediately set up a competing company. The defendants argued that the noncompete agreement was an illegal restraint of trade under the provisions of MARA, which provides that a “contract, combination, or conspiracy between 2 or more persons in restraint of, or to monopolize, trade or commerce in a relevant market is unlawful.” Id (citing MCL 445.772). They argued that because MCL 445.774a only made employment noncompete agreements legal, noncompete agreements in other contexts must be illegal under the maxim of statutory interpretation that “the expression of one thing is the exclusion of another.” The trial court agreed and dismissed the plaintiff’s claims based on the noncompete agreements.

Common Law Rule of Reason
After an extensive analysis of the history of covenants not to compete in Michigan, the Court of Appeals concluded that such agreements are enforceable under MARA according to the common law rule of reason. The statute passed in 1905 that made such covenants illegal (MCL 445.761) was contrary to the common law principle first announced in Michigan in Hubbard v Miller, 27 Mich 15 (1873). In this early case, the Michigan Supreme Court held that noncompete agreements should be considered in light of the surrounding circumstances, and if:

the restraint contracted for appears to have been for a just and honest purpose, for the protection of the legitimate interests of the party in whose favor it is imposed, reasonable as between them and not specifically injurious to the public, the restrains will be held valid.

The Court of Appeals concluded that the legislature’s passage of MCL 445.774a in 1987 was not meant to re-abolish the common law rule of reason with respect to other noncompete agreements that was rekindled just two years earlier by the passage of MARA and repeal of MCL 445.761. Rather, this statute was merely intended to clarify the legislature’s intent with respect to noncompete agreements between employers and employees. The court noted that the trial court’s interpretation, if upheld, would make certain covenants not to compete illegal under MARA that had been legal even during the statutory regime of MCL 445.761, such as those involving the sale of a business.

Consequently, the Court of Appeals reversed and remanded the case to the trial court, instructing it to analyze the noncompete agreement under the common law rule of reason announced in Hubble. The court did not list the factors to be considered in determining whether the covenant is reasonable, and, as one might imagine, there is absence of recent Michigan case law applying the common law rule of reason given that such covenants were illegal in Michigan for 80 years. Nonetheless, the opinion notes that the language of MARA was apparently patterned after the Sherman Antitrust Act so that Michigan courts could draw upon the body of precedent that developed under the federal act. Further, in circumstances closely analogous to the employment relationship, as is the case with independent contractors, it can reasonably be assumed that courts will look to the standards incorporated into MCL 445.774a and developed by subsequent case law since that statute’s passage in 1987.

A company that does not have noncompete agreements in place with its employees or independent contractors should consider implementing such agreements. Obviously, legal counsel should be retained to draft the appropriate agreements, tailored to address the specific reasonable needs of the business involved.

For further information regarding these matters, please contact Mr. Nixon at (248) 619-2585 or ron.nixon@kkue.com.